Is GCS Holdings (GTSM:4991) A Risky Investment?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies GCS Holdings, Inc. (GTSM:4991) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for GCS Holdings

What Is GCS Holdings's Net Debt?

As you can see below, at the end of September 2020, GCS Holdings had NT$158.2m of debt, up from NT$93.0m a year ago. Click the image for more detail. But it also has NT$1.15b in cash to offset that, meaning it has NT$988.5m net cash.

How Strong Is GCS Holdings' Balance Sheet?

The latest balance sheet data shows that GCS Holdings had liabilities of NT$248.6m due within a year, and liabilities of NT$190.2m falling due after that. On the other hand, it had cash of NT$1.15b and NT$235.9m worth of receivables due within a year. So it can boast NT$943.9m more liquid assets than total liabilities.

This excess liquidity suggests that GCS Holdings is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that GCS Holdings has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that GCS Holdings grew its EBIT at 11% over the last year, further increasing its ability to manage debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if GCS Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While GCS Holdings has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, GCS Holdings actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that GCS Holdings has net cash of NT$988.5m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of NT$276m, being 100% of its EBIT. So is GCS Holdings's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 2 warning signs we've spotted with GCS Holdings (including 1 which is a bit concerning) .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

When trading GCS Holdings or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.